Do you remember when a 680 credit score provided the best interest rates to your customers? Today, according to Bankrate.com, the best rates and mortgage programs go to consumers with 700+ credit scores. Consumers with less than a 700 credit score may see additional fees of 1% or more and increased interest rates as high as 1% over the base rates. The increased fees and interest expense represents about $3,500 in extra fees and as much as $134 a month in additional monthly mortgage payments for a new home buyer purchasing a $350,000 home.
Making this problem worse is the ever changing landscape of the credit markets and economy. Take one example: A consumer who had a credit score of 732 last year is now at 648, yet they have continued to pay all of their bills on time.
So what were the primary causes of this dramatic decrease in their credit score? First, the consumer had their oldest and most established credit card, from a credit worthiness perspective, closed by a creditor due to non-usage. Second, two other creditors dropped the consumer’s available credit limits which negatively impacted their credit utilization ratios (i.e., amount spent each month compared to the credit limit). In each case, these changes occurred for no other reason than the creditors’ overall concern for risk in the marketplace. The concerning part of this story is that it’s happening unknowingly to millions of consumers across the country who have GOOD to EXCELLENT credit. If you are concerned whether or not this or a similar scenario has impacted you then contact us through the information provided at the end of this column.
A credit score is not the only thing that affects a consumer’s worthiness for the best interest rates and programs. How they manage their debt and how much cash is left after paying their debt on a monthly basis is another primary critical risk factor lenders evaluate when offering any new credit. This key metric is called a consumer’s Debt-to-Income Ratio (“DTI”) and measures a consumer’s required amount of monthly payments associated with debt in relationship to their monthly income. The less remaining income a consumer has after paying all of their required monthly debt equates to a greater perceived risk by lenders. The greater perceived risk could either ultimately result in higher interest rates and fees or no credit options at all.
So what should your customers do?
1. Understand How Credit Works – Although many consumers think they understand how credit works (i.e., “As long as I pay all of my bills on time I will have good credit), there are many misunderstandings. Although this perception is generally accurate, it is only part of the equation and will rarely help a consumer establish “great” credit. Simply stated, the reality is that building great credit and credit scores is like making a fine wine; it takes good ingredients, planning and time. A consumer that thoroughly understands how strong credit scores and credit are created can establish “good” credit the first time. However, the far majority of consumers manage to learn about credit through years of trial and error. Understanding how credit reports and scores work to create an excellent credit profile is important and becomes the foundation to strong financial self management.
2. Credit & Debt Optimization – Consumers need to take a snap shot of their current debt profile compared to their current income and liquid assets (i.e., cash, short-term investments, etc.) and then look for ways to “optimize” their debt. Examples could include strategies to reduce credit card balances owed to lower limits that will help them strengthen their credit scores, reduce interest rates and/or create opportunities to move balances to lower interest rate debt alternatives.
3. Know What’s Going On – If you’re not managing your credit and debt profile then who is? It’s important to review you credit at least three or four times per year. By doing so you can monitor it for changes that may have occurred without your knowledge such as the example above. It’s also a great opportunity to self monitor your profile for errors or suspect activity such as identity theft.
Understanding, building and self managing your credit is like changing the oil in your car. If you do it regularly then the car runs better. If you do it only when the engine has problems then you often find yourself in a challenging situation! A good credit coach and credit reference tools can help you understand how to truly understand, evaluation and optimize your credit & debt.
Either call (909) 942-2000 or write an email to Marlin@approvalguard.com or Jeff@approvalguard.com if you have any questions or concerns regarding your customers’ or personal credit situation.
